Bank of America, Morgan Stanley shares hit 2-year lows as Europe adds to banks’ woes

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U.S. big-bank stocks, already outcasts on Wall Street this year, now are being tainted by Europe’s debt woes.

The U.S. market’s decline on Monday was led by the financial sector, which tumbled in sympathy with the steep sell-off in many European bank stocks.

Bank of America’s shares slid 35 cents, or 3.3%, to $10.35, the lowest since May 2009 -- when the market was just beginning to recover from the 12-year lows reached in March of that year.

Morgan Stanley fell 72 cents, or 3.2%, to $21.58, the lowest since April 2009. JPMorgan Chase shares lost $1.31, or 3.2%, to $39.43, a seven-month low.

The chart below shows an index of 81 financial stocks in the Standard & Poor’s 500 index. The financial index is down 5.8% this year, the only one of 10 major industry sectors in the red for 2011. The S&P 500 overall is up 4.9% year to date.

Europe’s debt crisis is spreading from the smaller economies of Greece, Ireland and Portugal to the two biggest economies of southern Europe: Spain and Italy. Market yields on Spanish and Italian bonds have risen for six straight sessions as investors demand ever-higher returns to buy the countries’ debt.

As yields climb the risk is that it will become too expensive for Spain and Italy to roll over their existing heavy debt burdens at market rates. That’s what forced Greece, Ireland and Portugal to seek bailouts from the rest of the European Union over the last 14 months.

Andrew Busch, public policy analyst at BMO Capital Markets in Chicago, notes that many global investors already are assuming that Greece will have to default on part of its debt, which likely would mean losses for European banks that own Greek bonds.

But the prospect of Italy and Spain facing debt payment problems is mortifying for the financial sector. Italy’s debt still appears manageable, Busch said, “But perception is reality when it comes to these things.”

Federal Reserve Chairman Ben S. Bernanke said last month that major U.S. banks had little “direct” exposure to government debt of Greece, Ireland and Portugal. But even in those cases, he said, a “disorderly default in one of those countries would no doubt roil financial markets globally” as investors ran for cover.

For the big banks, the main fear is that the debt “contagion” could cause lenders to begin cutting off short-term credit to one another, as they did after brokerage Lehman Bros. failed in 2008. That could cause the financial system to seize up.

Benchmark short-term interest rates have risen in Europe in recent days. The so-called London Interbank Offered Rate, or LIBOR, rose Monday to 1.381% for one-month euro loans, up from 1.345% on Friday. Some of that reflects the European Central Bank’s latest boost in its key rate, to 1.5% from 1.25% on Thursday. But the ECB’s move had been expected.

By contrast, LIBOR for one-month loans in dollars has been unchanged in recent days at 0.186%.

Even without Europe’s debt mess, U.S. big-bank shares have been market pariahs this year. A lack of loan growth, state lawsuits over alleged foreclosure abuses, a worsening housing market and regulatory pressures at the federal level have driven many investors away from the stocks.

JPMorgan Chase and Citigroup are due to report second-quarter earnings on Thursday and Friday, respectively. The question is whether they can tell investors anything new to dispel the dark cloud over their stocks.

-- Tom Petruno

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